Amazon’s CEO Says 2023 Will Be a Year of Efficiency. Does That Make the Stock a Buy? | The Motley Fool

Amazon (AMZN 3.03%) went from the darling of the stock market to unloved by many investors in just a few short years. The company’s shares soared during the COVID-19 pandemic, when growth for its e-commerce and cloud businesses exploded, but now investors are worried about deteriorating profit margins and weak cash flow generation. Over the past three years, shares of Amazon are actually down 13.5% while the S&P 500 is up 51.2%.

In CEO Andy Jassy’s recent letter to shareholders, he outlined why Amazon will improve its efficiency this year, leading to better profits for the company. With shares in the gutter, does that make the stock a buy at these prices?

Finding efficiency in logistics

The first topic Jassy addressed in his letter was the current efficiency (or lack thereof) in Amazon’s e-commerce business. In 2022, the company’s North American retail division generated $316 billion in revenue, but it actually produced an operating loss of $2.8 billion. Jassy says this was due to macroeconomic factors like high oceanic freight rates and energy prices, which have started to come down from their highs. But there were also many costly decisions Amazon made that led to margin deterioration within its retail business over the last few years.

When the tech titan started seeing customer demand grow at a rapid rate during the 2020 pandemic lockdowns, it needed to scramble and build enough delivery infrastructure in order to keep its users satisfied with fast delivery times on their purchases. To do this, Amazon doubled its real estate footprint in around two years and built out a last-mile delivery network “that’s now the size of UPS,” according to Jassy. While management believed this was the right move at the time, the speedy build-out of Amazon’s vertically integrated delivery infrastructure had a lot of wasteful spending that it paid for with higher operating expenses in 2022.

Now, Jassy says the company is prioritizing greater efficiency across the back end of its retail business by decreasing cross-country transit for products, improving customer purchase predictions through artificial intelligence (AI), and separating the United States into eight localized fulfillment networks. These changes will shorten delivery times for customers and lower costs for Amazon, which should be a win-win. Of course, shareholders will likely cheer if the company’s retail margins start recovering over the next few quarters as well.

Cloud growth slowdown

The crown jewel of Amazon’s business over the last few years has been Amazon Web Services (AWS), the leading cloud infrastructure provider worldwide. Last year, the division grew revenue by 29% year over year, equaling an annual run rate of $85 billion, all while sporting an operating margin of 28.5%.

However, in late 2022, the internet and software markets saw a huge slowdown, especially within sectors heavily backed by venture capital funding. Many companies are also trying to reduce costs during this period of high inflation. In his shareholder letter, Jassy addressed this issue and said Amazon will be working with its customers to find pockets of inefficiency and reduce their AWS bills, which will hurt revenue growth in 2023.

With long-term contracts and huge switching costs, AWS could easily juice more money from customers during these difficult economic periods and, therefore, maintain its high revenue growth rate and profitability in the interim. However, Jassy and the AWS team believe the best move long-term is to preserve its customer relationships by helping them out through slowdowns, which will lead to better retention and cloud spending once the economy recovers. I think it is a fantastic decision that will drive shareholder value.

So is Amazon stock a buy?

If Amazon’s retail margins start moving higher in 2023, the stock is an attractive buy at its current market cap of $1 trillion. Last year, the company hit $514 billion in revenue, up from $470 billion in 2021. Riding the secular trends of e-commerce and cloud adoption, that figure is well on its way to hitting $600 billion within two to three years’ time.

A consolidated profit margin of 10% on $600 billion in revenue equates to $60 billion in annual profits for Amazon. This, in turn, gives the shares a forward price-to-earnings (P/E) ratio of just 16.7. For reference, the market’s current average P/E ratio is 22. Given these assumptions, I believe Amazon’s stock will outperform the market over the next five years, making it a great buy for individual investors today.